Rudi's View | May 24 2018
In this week's Weekly Insights (this is Part Two):
-Crude Oil, The One To Watch
-FIIG High Yield Conference: Get Ready
-Housing Finance Growth, The Australian Canary?
-CSL, Sign O' The Times
-Rudi On TV
-Rudi On Tour
-At The AIA Conference
[Note the non-highlighted items appeared in Part One on the website on Wednesday]
Housing Finance Growth, The Australian Canary?
By Rudi Filapek-Vandyck, Editor
The Auscap Long Short Australian Equities Fund has grown from a mere $50m to $600m since the fund was established in 2012 by two principles who'd left behind a successful stock picking career at Goldman Sachs. The performance since inception has been a mouthwatering 21.8% per annum -more than double the broader market's performance- though in recent times returns have been significantly less in-line with many other value seeking funds managers elsewhere.
Auscap sees itself as index agnostic, high conviction, somewhat contrarian, value investor and new positions have been added among beaten down consumer discretionary stocks and real estate investment trusts (AREITs), as well as in Fairfax Media ((FXJ)). But probably just as interesting, if not more, is the fact that Auscap, even after this year's notable underperformance for Australian banks, remains negative on the outlook for Commbank ((CBA)) and its peers.
The reason is the Royal Commission is effectively forcing the major banks to tighten the availability of credit in the domestic economy through much more stringent borrowing requirements. The impact from the change in lending policies is not yet visible in official stats and data, but soon it will be and if Auscap's market insights are anything to go by, investors are in for a genuine shock.
Market sources have been intimating approved loan numbers are presently falling off a cliff.
Historically, Auscap research suggests, there is a close relationship between growth in housing finance through the banks and the performance of domestic equities. Whenever the economy goes through a soft patch, housing finance slows, then turns negative, after which the Australian share market follows suit.
Only in 2014 was the standard script not adhered by (probably because the economy kept on performing on the back of the China-instigated Commodities Super Cycle). This exception becomes all-important with the share market having recovered from early year weakness, and with the end of May approaching, and as housing finance growth data in Australia are on the verge of turning negative year-on-year.
See the black line on the chart below.
Source: Auscap annual roadshow, May 2018.
Can we now assume that the Australian share market is but one piece of data away from its next retreat? Or are we merely talking underperformance for longer for Australian banks? Auscap is taking no chances, having increased its cash level to above 30% in anticipation of more negative news about housing finance volumes from shell-shocked Australian banks.
In a completely unrelated event, David Rosenberg, chief economist and strategist at Canada's Glushkin Sheff is now predicting "Trumponomics" will cause the next US recession, probably in 2019. Rosenberg sees inflation building inside the US economy, but above all, he sees the global economy starting to cool off, with the synchronised global growth story fading, while there are plenty of worrying signals inside the US economy as well – it's just that many a market participant and commentator elsewhere prefers to ignore them.
Capital expenditure intentions at US companies are retreating, not increasing as was the promise with the corporate tax cuts, points out Rosenberg. And Trump's regressive tax cuts are accentuating already-record levels of income inequality. Stimulus at the wrong time of the cycle will come home to roost with the US fiscal deficit becoming increasingly structural, and dangerous.
Two trillion dollar deficits are taking shape on the horizon.
Rising bond yields are starting to impact on housing affordability, with recent data underwhelming, but Rosenberg states US bond yields must rise further on Trump's fiscal stimulus and with wage growth finally showing up. Then there are the ill-conceived trade tariffs that will lift domestic inflation.
The S&P500 Homebuilding Index has now fallen in excess of -20% from its late January peak, points out Rosenberg. Is this the share market telling a story that, so far, nobody wants to hear?
CSL, Sign O' The Times
In the end, the event was but a matter of time, but it's the deeper implications that should be on investors' radar, in my humble view.
Superstar biotech company CSL ((CSL)) is now more important than ANZ Bank ((ANZ)) for Australian share market indices, having overtaken the smallest of Australia's Big Four banks in market capitalisation last week. National Australia Bank ((NAB)) is not that far ahead, and I am willing to wager it'll be a matter of months, if not weeks, before CSL makes its entrance into the local Top Four.
Long gone are the days that, back in 2001 (I was in Australia less than one full year at the time) I had to point out to local investors CSL had just overtaken the at that time still iconic Coles Myer combination in market capitalisation, and should thus no longer be miss-labeled as a mid-cap stock.
But the true sad side of this story is that CSL's emergence as a Top Five index weight in the Australian share market will have been achieved while a large number of Australian investors has never owned one single share in what has been a truly remarkable Australian-born success story (that is still ongoing).
Don't underestimate the deeper symbolism of what is happening. For as long as I can remember, the Top Five of the Australian share market has comprised of the Big Four plus BHP. This is now changing and, as said, it seems but a matter of time before freshly minted Top Five member CSL will move further up to position number four, and then -it'll happen eventually- it'll move into the Top Three.
Currently, CommBank's weighting in the ASX200 is above 7%, with BHP following at considerable distance weighing less than 6%. Westpac is not that far behind BHP, but NAB's weighting is no more than 4.5%, within striking distance of Australia's largest biotech company.
Such major shifts are rather rare in Australia where the top is very much concentrated around said large market caps, with the rest following at a considerable distance. Consider, for example, after ANZ Bank's 4.4% index weighting, the next one in line is Wesfarmers with no more than 2.8% and about to demerge Coles. Then follows Telstra, believe it or not.
A quick glance through the top index constituents suggests the next switch is probably Macquarie Group ((MQG)) jumping over both Telstra and Wesfarmers, commanding position number seven. Further down the list, ResMed ((RMD)) is poised to enter the Top Twenty given Westfield is about to disappear, with incumbents Insurance Australia Group and Suncorp within striking distance.
Aristocrat Leisure ((ALL)) and Goodman Group ((GMG)) could be lining up next for an entrance in the local Top Twenty. Cochlear ((COH)) and REA Group ((REA)), respectively on positions number 39 and 40, will have to achieve a lot more growth before they will be able to join ResMed.
But the real question remains, of course, whether share market allocations by investors in Australia are not too much weighted towards those constituents that are gradually moving backwards. For these changes may happen slowly, and over long periods of time, the dynamics behind these changes should not be ignored.
I know, I keep on repeating myself. Still hoping enough investors will pay attention, eventually.
We have added 2x more installments of The Unfair Advantage.
One on yield investing in the Australian share market and one on Premium Quality, High PE stocks, and whether they are due for a fall:
Both videos can also be accessed directly through the website. See FNArena Talks, The Unfair Advantage.
Rudi On TV
This week my appearances on the Sky Business channel are scheduled as follows:
-Tuesday, 11am Skype-link to discuss broker calls
-Thursday, from midday until 2pm
-Friday, 11am, Skype-link to discuss broker calls
Rudi On Tour
-Presentations to ASA members and guests Gold Coast and Brisbane (2x), on 12 & 13 June
-ATAA members presentation Newcastle, 14 July
-AIA National Conference, Gold Coast QLD, June 29-August 1
-ASA Presentation Canberra, 3 August
-Presentation to ASA members and guests Wollongong, on September 11
-Presentation to AIA members and guests Chatswood, on October 10
At the AIA Conference
As stated in the overview above, I will be presenting at the AIA National Annual Conference at the Marriott Resort and Spa Surfers Paradise, from 29th July til 1st August 2018.
This year's theme is SYNCHRONICITY, Identifying opportunities in a world growing in sync…
For the first time in over a decade, the world’s major economies are growing in sync.
What does a world that is structurally awash in capital look like?
What will it mean for investors?
(This story was written on Monday 21st May. Part One was published on the day in the form of an email to paying subscribers at FNArena, and again on Wednesday as a story on the website. This is Part Two).
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